Credit Guarantee- A reality check
In the post- COVID scenario, MSME financing is almost identified with Credit Guarantee schemes. We look at its effectiveness and appetite among the consumers (MLIs).
Credit guarantee was born with a promise to ensure the availability of bank credit without the hassles of collaterals / third party guarantees to the entrepreneurs and others, Initially, it was established for Micro and small enterprises since the year 2000 as CGTSME (Credit Guarantee Scheme for Micro & Small Enterprises). In 2014-15, the credit guarantee got a huge boost with establishing National Credit Guarantee Trust Company(NCGTC) and the scope of credit guarantee expanded to include educational loan, MUDRA loan, Skill Development Loans, and Standup India Loans. The scheme operates with a pre-condition that these loans are not covered with any collateral security/personal guarantee by the MLI(Member Lending Institutions)
The main objective is that the lender should give importance to project viability and secure the credit facility purely on the primary security of the assets financed. The other objective is that the lender availing guarantee facility should endeavour to give composite credit to the borrowers so that the borrowers obtain both term loan and working capital facilities from a single agency.
The Credit Guarantee Scheme (CGS) seeks to reassure the lender that, in the event of a borrower, which availed collateral-free credit facilities fail to discharge its liabilities to the lender, the Guarantee Trust would make good the loss incurred by the lender up to 50/75/80/85 per cent of the credit facility.
The recent schemes:
The need to analyse these have cropped up because recently Govt made two new schemes to support MSMEs who are facing a huge challenge for survival in the wake of a global pandemic caused by COVID 19 and sharp lockdown imposed overnight without giving time to reduce the activities in an orderly manner.
ECLGS (Emergency Credit Limit Guarantee Scheme): It is a top-up loan for existing borrowers within a cap of Rs 3 lakh crores. The scheme envisages 100% guarantee support from NCGTC.
CGSSD (Credit Guarantee Scheme for Subordinate Debt): This is another scheme to support distressed entities to secure a subordinated debt to the extent of 15% of their contribution and seek a restructuring of the bank loan to revive the business. This scheme is piloted by CGTMSE and the maximum cap is at Rs 20000 crores.
The schemes generated a lot of hope as well as the hype.
Hope because many entrepreneurs who are already reeling under distress due to slowing economy over the last few quarters and sudden lockdown have got a window to stabilise the finances as the loan under the scheme is a cash loan with an extended repayment plan.
It is hype because policymakers have positioned it as the panacea for the entire MSME segment thought the relevance is not inclusive and just top-up for those who are having loans. Further its utility is unlikely to benefit to the fullest extent unless there is a revival of demand for their trade.
The concerns around credit guarantee schemes and its affinity to primary consumers:
There is a proverb. It says every journey should start with the end in mind. This is relevant here for lenders. Because the lenders are the primary consumers of the credit guarantee schemes. After all, they are responsible for the recovery of the money that is lent and they ought to return to the depositors with the promised return.
Hence it is obvious for them (lenders) being concerned about the efficacy of the Credit guarantee with reference to claim settlement to ensure that they get back their money rather depositors money safely.
Claim settlement: The guidelines for settlement of the claims are very much published on their website. What is relevant for how effective it is…….
There are two important issues. One is Guarantor’s insistence for proceedings of staff lapse if any in handling the loan account. The second one is the mandatory filing of the case before the court/DRT before making a claim under guarantee. Another important related issue is lack of access to Bankruptcy Avenue instead of court proceedings.
Many of the ex-bankers whom I have interacted are of the same opinion that CGTMSE seeks confirmation of non-existence of staff lapse within the bank. It is an obnoxious demand because the staff lapse may arise for many reasons not necessarily relating to the loan transaction. Secondly depending upon the banks’ internal proceedings reflects badly on the underwriting standards within the Credit Guarantor’s set up.
Reliance on Banks’ internal process to deal with lapses is the source of uncertainty for the banks to seek a claim from the Credit Guarantor. Thus their appetite for credit guarantee in lieu of collateral security is low. Probably that is the reason bankers are not very enthusiastic about the schemes floated by the Govt.
It is unfortunate that despite being in existence for 20 years CGTSME and NCGTC have not evolved their underwriting standards and rather relying on certain internal processes of lenders having different purposes and outcomes. This is probably hindering the growth of credit guarantee market thus depriving the opportunity for many entrepreneurs to go for orderly capital formation path.
Filing a case for recovery before preferring claims: It reflects the unwillingness of credit guarantor to accept the risk though the guarantee meant to do so. It suggests that the failure of a business is unacceptable. It is a fact that the reasons for failure are not necessarily with the borrower. The industry and economy-related factors will also decide on the performance of a loan account. Another significant issue is there is no enabling provision to deal with the issue under bankruptcy code. Probably that would help to give new lease of life and or quicker resolution than seeking court intervention.
Credit guarantor should have provided a broad range of solutions to deal with events of defaults and the option of fling case should be invoked very discretely.
The Credit guarantee option is very good for entrepreneurs who lack the collateral security to start the venture. However, the Credit Guarantors should do more to convince MLIs who are their primary consumers of the products through modifying their operating guidelines. Being set up exclusively to promote the entrepreneurship among the economically weaker section of the society, they must evolve a broad range of solutions to deal with failures that are endemic to entrepreneurship journey.
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